How the payments industry came to accept legal marijuana

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Once a relationship built on deceit, U.S. marijuana businesses and financial institutions have begun opening up to one another to smooth the compliance burden of processing payments for the legal cannabis industry.

A year ago, the relationship was far less chummy. Serge Chistov, the primary investor and financial consultant for Honest Marijuana, a recreational grow house in Denver, Colo., described his company's former banking relationships this way: “They don’t ask and we don’t tell."

Not that long ago, if an FI or credit card company found out a client was in the legal marijuana business, it would close those accounts, Chistov said. This forced cannabis companies to accept mainly cash, which can not only be an inconvenience for customers but also a security risk for businesses.

Lying to banks was "a necessary way to get financial services," Chistov said. “It was a very unhealthy relationship.”

Matthew Staver/Bloomberg

So what changed? Some of the pressure seems to be coming from Capitol Hill. The latest politician to broach the subject is Massachusetts Senator Elizabeth Warren, who this month said allowing marijuana vendors to handle noncash payments could be beneficial for the businesses and their communities by deterring crime. A shop that handles its payments electronically is less able to commit tax fraud and less likely to be a target of theft.

There's also a business case for banks and credit unions. Marijuana-related businesses throughout the United States last year brought in $6.7 billion in sales, an increase of 25% from 2015. A growing number of credit unions have begun to serve legal pot businesses, most notably Arvada, Colo.-based Partner Colorado CU. And as more and more states legalize the drug - either for recreational or medicinal purposes - more and more credit unions are getting used to the idea of providing banking services to a decreasingly taboo industry. Still, the drug remains illegal at the federal level, NCUA has declined to provide guidance on the matter, and the struggles of Denver's Fourth Corner CU - which was chartered a few years ago to serve the legal marijuana industry in Colorado but failed to gain access to the Federal Reserve - have kept many credit unions away. But the tide could be turning.

“You’re starting to see a tendency, a healthy capitalistic tendency, for banks and credit unions that know they are missing out on or losing money by not working with marijuana businesses,” said Chistov.

And now Honest Marijuana, true to its name, can be honest with its bank about the product it makes. While Chistov wouldn’t disclose the name of its new banking partner, he said it was a bank like any other, except there are extra compliance procedures for both parties; the grow house must do extra reporting work, which the bank accesses regularly.

The influx of competition has also lowered the fees for the grow house; Honest Marijuana now pays about 1% for payment processing, down from 4.5% it paid previously.

Despite this progress, most financial services providers still see compliance as a hurdle. Only about 300 of the more than 11,000 banks currently operating in the U.S. work with legal pot vendors.

“Paradoxically, most of the institutions nationwide that offer business to marijuana suppliers are small and very unhealthy; most are the ones desperate for income,” said Lamine Zarrad, founder and CEO of Tokken, a Denver-based blockchain startup.

Tokken sees the marijuana industry's situation as comparable to other industries, and thus it can apply solutions that other markets use. Tokken uses bitcoin blockchain to peg marijuana transaction information to its blockchain so that banks and regulators have an immutable, time-stamped record. Information about each transaction is hashed and input on the bitcoin blockchain. In this way consumers, businesses, banks, regulators and law enforcement agencies can view the system and ensure there’s no tampering, Zarrad said.

According to Zarrad, an ex-regulator, Tokken provides the enhanced know-your-customer reporting that banks need to feel comfortable working with marijuana businesses.

Tokken is currently working with several financial institutions, including two that are drawing up agency contracts with the startup. The company is also involved in a mobile wallet pilot program with two dispensaries, and according to Zarrad it has 40 dispensaries in the pipeline.